Coalition’s pension shake-up is a major error

The proposals for a new state pension are straight from the old Lib Dem handbook. The government wants to raise the state pension and pay it to everybody regardless of National Insurance contribution (NIC)?records.

There are problems with the current system, but sustainable reform is possible. The contributory principle should be strengthened and the two state pensions merged into one. Individuals should earn an entitlement to a fixed amount of pension each year when they pay their NICs with that fixed amount being indexed until retirement. Once pension is accrued it should neither be added to nor taken away by the government. The pensions of all the elderly would then be determined by the entitlements they earned throughout their working lives. If a particular generation wanted higher pensions, then that generation would pay for it with higher NICs.

The problem with the proposed “citizens’ pension” is that the pension will be decided by parliament and not be dependent on contributions. No fewer than 43 per cent of active voters are aged 55 or above. The government will thus not do anything to undermine the financial position of the elderly. A citizens’ pension will be forever increased under pressure from a greying electorate.

A pension based on a contributory system also allows for contracting-out so that people can make private provision and have a refund of NICs. Sadly contracting out has been brought into disrepute over the last 13 years but its scope should be extended and not reduced.

The Lib Dems say they do not like the contributory approach because carers and the disabled might be left out. Such people would not pay NICs and so they would not get a state pension. But if it is desired to fix this problem, the solution is easy: the government just gives credits to such people; it happens now and the system works.

A citizens’ pension has long been a policy of the social democrat wing of the Liberal Democrats. They believe pensions should be decided according to democratic vote using some notion of “fairness”. The genuinely small-l liberal idea of people making private provision is anathema to them. Even Beveridge’s and Lloyd George’s contributory principle for the state pension scheme seems to be on its way out. The liberals in the Conservative party need to suggest other approaches. If they do not, the younger generation had better start voting before their taxes rise and rise.

Philip Booth is the Institute of Economic Affairs’ editorial director.